Accountants gone Wild? Just What Are You Getting From Your Auditor?

Does the accounting firm retained to do your audit owe your credit union a fiduciary obligation? That was the question pondered by the Supreme Court of North Carolina. In a decision released in late September that state’s highest court said the answer is No. (CommScope Credit Union v. Butler & Burke, LLP, No. 5PA15, 2016 WL 5335250 (N.C. Sept. 23, 2016)

CommScope Credit Union sued Butler & Burke, LLP, the certified public accounting firm that the CU hired to conduct annual independent audits of its financial statements for its failure to find that the credit union’s manager had not filed an IRS Form 990 from 2001-09. The oversight resulted in IRS penalties of $374,000 and the credit union wanted the firm to pay. One of the arguments it made was that, in failing to inform the credit union about the missing forms the firm breached its fiduciary duty to the credit union. Hold on, said the accounting firm, auditors typically don’t owe a fiduciary obligation to the businesses they audit and credit unions are no exception.

(Although this argument involved an interpretation of North Carolina law the credit union’s argument resonated across the country as can be seen by the fact that the US Chamber of Commerce and the National Association of State Boards of Accountancy filed briefs).

What’s the big deal? As the court explained “All fiduciary relationships are characterized by “a heightened level of trust and the duty of the fiduciary to act in the best interests of the other party” The higher the duty the firm owed to the credit union the more responsible it becomes for the 990 mishap.

The credit union won at the appellate level and the firm appealed to North Carolina’s highest court. It successfully argued that audits are conducted in part for the benefit of the public to insure investors that they can trust the financial disclosures being made by businesses. This obligation to the public as well as the credit union means that an auditor doesn’t have the obligation of undivided loyalty that typifies fiduciary relationships.

The credit union could have created a fiduciary relationship with the auditor as part of its engagement agreement but did not do so. By agreeing to perform the audit consistent with accepted audit standards the firm “agreed to find internal control deficiencies only to the extent necessary to perform its audits. Because defendant did not agree to affirmatively search for deficiencies outside of the performance of its audits, it did not agree to do anything beyond what an independent auditor normally does.”

The case isn’t over yet. The credit union can still argue that the firm’s failure to spot the missing 990’s amounted to negligence. But no matter what the ultimate outcome the accounting industry notched an important victory.

Before your supervisory committee sends out its next engagement letter it might be worth it to review what you expect to get out of your audit and the language that you have been relying on to get you there. If you thought your auditor was a fiduciary responsible for noticing that basic forms haven’t been filed think again. Put your expectations in writing. At the very least, you will start a discussion with your auditor about precisely what you are getting when you pay for its services.